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More Details On Fuhu, The Nabi Tablet Maker Suing Toys "R" Us

Android tablets are set to take a bite out of the iPad this year, especially in niches like kids and education. The high stakes explains why Fuhu, backed by Acer, Foxconn and Kingston, is willing to take on toy giant, Toys "R" Us.

Like another Android tablet maker in the kids/education space that I've written about recently, Fuhu Inc. got into tablets almost by accident.

Their story is interesting both as an example of how startups need to always be ready to pivot towards new opportunities, as well as the perils of putting all of your eggs into the basket of a much larger partner.

(Note: See my earlier look at the Fuhu-Toys "R" Us lawsuit. Also, I've contacted Toys "R" Us for a comment but have not heard back from them. I will update with their account if/when it arrives.)

Fuhu was founded in 2008. Two of its co-founders have impressive resumes in PCs. John Hui, co-founder and chairman, started KDS, a leading monitor maker in the CRT era. He also started eMachines and turned around Packard Bell, both budget PC makers that were eventually sold to Acer. Steve Hui started Everex Computers, also once a leading budget PC maker.

Despite the hardware leanings of its founders, Fuhu initially focused on delivering music and entertainment content to users that they could share on social networks like Facebook. The content came in the form of widgets, the term du jour then for apps. These widgets, which Fuhu called "Spinlets,", were embedded with content like a song or a short video.

urfooz's cartoon trading-card-like avatars never took off, but eventually became the cute app interface of today's Nabi tablet.

Appropriate to Fuhu's location in the entertainment capital of Los Angeles, the key difference with Spinlets was that they all appeared to be built in conjunction or licensed from the creator, whether it be a singer, movie studio or author. This discouraged content piracy, such as the kind that is rampant everywhere else on the Web.

Fuhu also created an app called urFooz, which were cartoon-y avatars to which users could attach their favorite Spinlets and then post on FaceBook or Twitter.

Neither Spinlets nor urFooz really took off in a major way, though the latter morphed into Foozkids, an application that let kids safely surf the Web and communicate with other kids, according to Fuhu CEO Jim Mitchell, and was pre-installed on millions of Acer, Gateway and Packard Bell PCs. Foozkids then morphed into the foundation of the Nabi tablet's kid-friendly user interface.

After the iPad's monsterous debut in early 2010, Fuhu moved away from software towards the Nabi tablet. 114 employees and contractors in San Jose, El Segundo (Los Angeles area) and Asia work on the Nabi today. The privately-held startup has taken nearly $33 million in financing, including $10 million in debt last month. That arms it for fast-growing demand for 7-inch Android tablets, which is expected to double over last year.

Fuhu was looking for partners to embed content onto its tablet. Through a mutual partner, Roxio, Mitchell met with Toys "R" Us in New York City in fall 2011. After showing its coming tablet to the New Jersey-based toy retailer's executives (all under NDA, according to Fuhu), Toys "R" Us executives started aggressively wooing Fuhu to let it sell the Nabi exclusively through its stores and Web site, in exchange for "millions of dollars worth of marketing, merchandising, and sales," according to Fuhu's legal complaint.

That never happened. Instead of ordering more than 100,000 Nabis and heavily promoting the tablet, Toys "R" Us allegedly only ended up ordering and selling slightly more than 20,000 Nabi tablets during Christmas 2011. It's unclear from Fuhu's complaint whether there were disagreements over strategy or dissatisfaction with Fuhu's ability to ship tablets. What is clear is that few weeks after Christmas, the two companies terminated their agreement.

After that, according to Fuhu, Toys "R" Us began copying its Nabi business plan, its tablet design (i.e. the Butterfly rubber case) and shared other NDA information with "one or more" of Fuhu's competitors.

Toys "R" Us also began selling Nabi competitors such as the Kurio tablet, while preparing to announce its own tablet, the Tabeo, due for release on October 21st.

The interesting thing about $150 kids' tablets such as Oregon Scientific's MEEP, the Kurio and Toys "R" Us's Tabeo, is that they all sport single-core ARM chipsets equivalent to those in 2 year old mainstream tablets like the original iPad.

That's more powerful than childrens' devices from LeapFrog and VTech. But they badly lag mainstream Android tablets today such as the Amazon Kindle Fire HD and the Google Nexus tablet.

(I'll be coming out with my own review of the Nabi 2, co-written with my two sons, in the next several weeks.)

Fuhu even argues that its competitors, including the Tabeo, are actually hurting the kids' tablet market with their wares.

"The poor quality of those competitors [to the Nabi] generated, on information and belief, return rates of at least 15%-25%," according to Fuhu's legal complaint filed. Fuhu claims that Nabis are returned at a "comparatively miniscule 3%-5%."

It also says Toys "R" Us is diverting customers on its web site searching for the Nabi to rival products, including its own Tabeo. That's a claim I was able to replicate when I visited ToysRUs.com on Monday, though whether that is considered a violation of Fuhu's trademarks and trade secrets is to be determined.

The lawsuit could prove a distraction for Fuhu, which is in the middle of a multi-million dollar television advertising campaign for the Nabi 2 tablet and plans to sell through the physical and online stores of Walmart, Best Buy, Target, GameStop and Amazon.com this Christmas.

"We're doing very well right now, and have well exceeded what we sold last year," Mitchell said. He declined to state a target for this Christmas: "Our hope is that we sell quite a bit more than last year."

But Fuhu's Mitchell said that there was no question about sitting back and letting the market decide.

"We educated them on how to build a tablet," he said. "It was simply too much of a wrongdong for us to ignore. We didn't have any alternative."